In a financial crisis, one theory goes, Bitcoin and other cryptocurrencies will be worth owning because they aren’t tied into the stock, bond or real estate markets.
While there may be some truth to this belief, in reality it may not hold water. In a financial meltdown, investors flock to tangible things like gold or Treasury bonds. They exist and have a measurable value that holds up because they are backed up by real-world metals or Congressional promises.
Even currencies like the dollar and Euro have governments and central banks behind them. They can support them by buying and selling debt securities.
What would support a cryptocurrency like Bitcoin in the event of a meltdown in financial markets? Would they be supported by a lender like the Federal Reserve, which has no obligation to do so?
I know, The Fed propped up giant insurer AIG during the 2008 meltdown, although the company wasn’t even a bank. AIG had massive derivative positions that threatened to tank the entire global financial system. Why not a Bitcoin bailout?
Would the Fed rescue megabanks that held large crypto positions? That’s a compelling question for today’s regulators as banks move into crypto trading and Dodd-Frank financial reform rules are loosened.
Famed short seller James Chanos thinks cryptos are perilous assets during a crisis. Their value is contentious and not backed by any government.
“For those who believe that you need to own digital currency as a store of value in the worst-case scenario, that’s exactly the case in which a digital currency will work the least,” Chanos said in an interview with the Institute for New Economic Thinking. “The last thing I’d want to own is Bitcoin if the grid goes down.”
Chanos, who shorted Enron before the company’s massive accounting fraud was revealed, doesn’t buy the idea that Bitcoin and other cryptos will replace fiat currencies. There may even be a bubble ready to burst.
“We’re now nine years into this bull market, same as the ’90s, so I suspect that now things are starting to percolate,” he said, singling out Bitcoin and initial coin offerings for other tokens.
“This is simply a security speculation game masquerading as a technological breakthrough in monetary policy.”
Of course, the other side of the argument is that digital currencies are the way of the future, although it’s difficult to tell which ones will emerge as viable alternatives to cash. The jury’s still out.
In the interim, it would be worth watching companies that invest in the underlying blockchain technology or a basket of cryptos. As with investing in general, hold a big basket of securities to avoid getting burned on one, concentrated holding.